Perhaps the most fundamental issue in any VC financing is valuation. Valuation refers to the value of the Company as established by agreement between the Company and the investors. Many entrepreneurs and investors will tell you: Valuation is an art and the product of negotiation, not a science.
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What is Valuation?
Valuation refers to the value of the Company as established by agreement between the Company and the investors. Investors typically refer to “pre-money valuation” and “post-money valuation.” Valuation is an art and the product of negotiation, rather than a science. Below are definitions of “pre-money valuation” and “post-money valuation.”
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Pre-Money Valuation
Pre-money valuation refers to the value of the Company prior to the investment. It is calculated by multiplying (i) the price per share to be paid by the investors, and (ii) the number of shares outstanding prior to the financing, calculated on a fully-diluted basis so as to include the employee reserve pool. In the example given in the term sheet at the end of this Chapter, the pre-money valuation is $4 million ($1.00 per share times (3 million founders plus 1 million employee reserve shares)).
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Post-Money Valuation
Post-money valuation refers to the value of the Company immediately after the financing, and is calculated by adding the amount of the new investment to the pre-money valuation. The $2.0 million financing of “High Tech Start Up, Inc.” yields a post-money valuation of $6.0 million.
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What is the median company valuation for a financing?
Median Pre-Money Valuation (in millions):
Series A Series B
Q1 2007 $9.0 $25.0
Q2 2007 $7.2 $20.0
East Coast v. West Coast Median Pre-Money Valuation 2006 to 2007 (in millions):
Series A Series B
East $6.0 $10.0
West $9.0 $28.0
Source: Private Company Financing Report, Cooley Godward Kronish LLP, 2006/2007
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Summary of Valuation Methods
Some industry experts will tell you that valuing an early stage company is more a matter of intuition and experience than an actual empirical calculation (as discussed previously with the “50% discount” rule of thumb). That said there are a number of methods that an entrepreneur can look to for some guidance on the valuation figures to see if the valuation is reasonable. Below are a few of the typical tools that venture capitalists will utilize in their determination of a valuation.
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